ANALYSIS-Kingfisher's nosedive poses dilemma for Indian government

By Anurag Kotoky and Sanjeev Choudhary| NEW DELHI

NEW DELHI Feb 26 As Kingfisher Airlines
careens toward collapse, the Indian government finds
itself between a rock and a hard place.

The government, already weakened by a string of corruption
scandals over the past year, will face further political heat if
it tries to rescue a money-losing private carrier - especially
one owned by a flamboyant liquor baron.

If it lets Vijay Mallya's airline fail, however, the
government will hurt state-run banks, which own about a fifth of
Kingfisher's shares and three-quarters of its $1.3 billion debt.

It needs at least $400 million quickly to keep flying,
figures Centre for Asia Pacific Aviation (CAPA), a
consultancy . Mallya's plans to raise funds through a
share sale have been stalled and he has been lobbying the
government to get state-run banks to lend more.

The fast clip at which the government has moved to change
regulations in the past two months - airlines can now directly
import fuel, lowering their costs, and private carriers can fly
overseas more - has lifted expectations that Mallya may
eventually win the help he needs from the government.

"India: Kingfisher's national carrier," one Tweeter quipped
last week.

A government bailout for a private carrier would not go down
well with the public in India, where airlines are still not the
common man's preferred mode of travel. Conscious of that, the
government insists it is not looking to bail Kingfisher out.

Mallya avoids the bailout word too and, instead, says he is
only asking for more working capital, which Aviation Minister
Ajit Singh says is up to the banks to decide on.

However, late last year Prime Minister Manmohan Singh spoke
of finding ways to help Kingfisher, which has led many to
believe that in the end the government will come to its rescue.

"Is the government being duplicitous about its stand on the
increasingly distressed Kingfisher Airlines?" the daily Business
Standard wrote in an editorial, advocating no more funds from
state banks for a carrier that wasn't 'too big to fail'.

Saving a private airline would be risky for Singh's
government, which has faced pressure from allies, political
opponents and civil activists for more than a year over graft.

"After all the charges of crony capitalism ... if the
government rolls out the red carpet for Kingfisher, it will once
again come under attack," said Paranjoy Guha Thakurta, a
political analyst.

Mallya, whose liquor business clout helped win him a seat in
the upper house of parliament two years ago, could use his
political ties to save the carrier he started in 2005.

Allowing foreign carriers to buy a stake in Indian carriers
is probably the key policy step Kingfisher desperately wants the
government to take. Unlike in 2007, when ailing airlines were
bought over by Kingfisher and Jet Airways <JET.NS), there are no
domestic carriers circling to buy up rivals today.

"In the short term, it is in urgent need of money. If they
get about 10 billion rupees ($200 million) now, that will last
them about three to six months; and after that we will
definitely have FDI (approval for foreign direct investment),"
said Sharan Lillaney, an aviation analyst at Angel Broking.

However, foreign carriers have shown little interest so far
in investing in the Indian airline sector, which has grown by 17
percent in 2011 but intense competition has driven five out of
six local carriers to massive losses.

Indian carriers are on course to post cumulative
losses of up to $3 billlion for financial 2011/12, CAPA
estimates.

"I don't think FDI is the answer to all the problems. Indian
carriers need to resolve the fundamental issues of excess
capacity, high cost structures and unviable pricing strategies,"
said Kapil Arora, a partner with Ernst & Young.

DREAMS TURN SOUR

After India embraced economic reforms two decades ago, a
slew of private carriers rose in the Indian skies and then ran
into the ground.

Modiluft, East West, NEPC Airlines and several others shut
down operations within a few years of their launch for reasons
ranging from inability to manage cost to funding concerns.

Mallya, who had so far run a very successful liquor empire -
turning it into the world's second-largest by volume through
acquisitions - probably chose to ignore past lessons.

He took pride in getting a five-star rating for his airline,
making it the first Indian carrier to provide passengers with a
personal video screen, offered a superior level of service and
even hand-picked air hostesses himself.

For Mallya, who owns several yachts as well as cricket and
Formula One teams, an airline was an extension of his persona.

"For sure, there was ego and vanity at play because even
when he started the airline it was not a secret worldwide that
the airline business doesn't bring in easy money," said Santosh
Desai, a brand strategist and columnist.

In a rush to expand, Mallya acquired Air Deccan in 2007 for
$220 million, a deal that saved the tottering low-cost carrier
but over-leveraged Kingfisher.

Soon after, a global downturn hit Indian carriers hard,
choking access to the equity market. Most airlines survived the
crisis, but a debt mountain built up at Kingfisher and the top
carrier, Jet Airways. Equity markets recovered, but
Kingfisher failed to raise fresh funds.

This, along with operational losses partly due to high fuel
costs - Kingfisher has never reported a profit - were crippling.

Questions have also been raised about its business model.

"India is a very price-sensitive market. In transportation,
it is a volumes game; many of the frills do not matter in a
short two-hour flight," said Amber Dubey, director of aviation
at global consultancy firm KPMG.

Kingfisher now flies only 175 daily flights from a peak of
400 six months ago, with only 28 of its fleet of 64 operational.
Lessors have started cancelling leases for planes, and the
aircraft Kingfisher owns are mostly pledged with lenders.

An uncertain future and delayed salaries have driven away
about 300 pilots and a few hundred other staff to rivals.

The carrier is also losing prime slots at key airports,
which, along with a staff crunch, may prevent a quick return to
normal operations even if it does survive this debt tsunami.

About nine-tenths of Mallya's 58.61 percent stake in
Kingfisher is pledged. Even the brand 'Kingfisher' has been used
as collateral, according to media reports.

The company is now seeking to restructure its $1.3 billion
debt, which may force lenders to take a writedown, extend fresh
loans and make Mallya plough in fresh equity.

This has been in the works for six months, however, and it
is unlikely an agreement can be reached in a hurry.

In a deal done early last year, lenders converted debt into
a stake of just over 23 percent in the carrier at about 65
rupees a share. But the stock has lost about 60 percent since
the beginning of 2011, closing down 4.35 percent at 24.20 rupees
on Friday.

THE FALLOUT

Kingfisher's end, if it happens, would be the biggest failure
in Indian aviation history and would impact the sector in the
short term.

"If you see such a substantial number of seats being removed
from the market suddenly, it will have a very adverse impact on
the fares," said E.K. Bharat Bhushan, chief of India's aviation
regulator.

A collapse could also lead to thousands of job cuts and the
withdrawal of flights on some loss-making routes that Kingfisher
flies exclusively or shares with state-run Air India.

Kingfisher's market share in domestic skies, which has
halved to about one-tenth in recent months, will get divided
among rivals, with the low-cost carriers benefitting most.

Ever since Air India and Kingfisher flew into turbulence,
budget carriers' market shares have increased dramatically.

If Mallya can keep moving levers in Delhi, as he has in the
past, Kingfisher could remain more than a brand of beer. If he
falters and the government withdraws the life support,
Kingfisher could run into the ground quickly.

The failure would also dent Mallya's image, crafted through
the years with massive display of wealth, wine and women.

"Mallya represented the extreme of an exuberance that India
has seen lately," said Santosh Desai. "But business cycles can
be cruel and those traditional values of caution and prudence
take precedence over unfettered ambition."
(Editing by John Chalmers and Ron Popeski)